Bulletin, February/March 2006

The Legal Landscape After MGM
v. Grokster: Part 2, Understanding the Impact on Innovation

by Tomas A. Lipinski

Tomas A. Lipinski is
associate professor and co-director, Center for Information Policy Research,
University of Wisconsin-Milwaukee. He can be reached by phone at 414-229-4908
or by email at tlipinsk <at> uwm.edu

Editor's
Note: This article continues Dr.
Lipinski's discussion of the U.S. Supreme Court’s recent Grokster decision.
Part 1, which covers the legal background of the case and the findings of the
court, appeared in the October/November 2005 issue of the Bulletin.

In
Part 2 of this paper we address the following questions: Will the "inducement" rule created by the Supreme Court in Grokster
stifle development of Internet technology
or other copyright-related technologies? Will the Groskter
rule prove more restrictive than the Sony
"“substantial noninfringing uses" rule? Future events alone may offer a
definitive answer. However, in the aftermath of Sony
the VCR did not sink the movie industry - in fact such technology opened new
legitimate markets or revenue streams to copyright owners in the same way DVDs
are doing now for film and video.

Justice Souter observed in Metro-Goldwyn-Mayer
Studios Inc. v. Grokster, Ltd. [_
U.S. __, 125 S.Ct. (2005)]
that the Sony
safe harbor rule allowed "breathing room for innovation and a vigorous
commerce" because "where an article is 'good for nothing else' but
infringement [Canda v. Michigan Malleable
Iron Co., supra [124 F. 486 (6th Cir. 1903)] at 489,] there is no legitimate
public interest in its unlicensed availability, and there is no injustice in
presuming or imputing an intent to infringe." Likewise the Grokster inducement rule only seeks to penalize those entrepreneurs
who demonstrate a desire to have their devices put to infringing uses through
affirmative acts that encourage infringement.

Even in those cases
heretofore governed by Sony, where
consumers could make substantial noninfringing uses of the technology, the Grokster inducement rule recognizes that those entrepreneurs who
foreclose that choice – by steering consumers down the path of infringement
from the outset, thus precluding any real chance of the legitimate uses to
develop or at least not to develop without some difficulty – should shoulder
some responsibility. Developers without any ill will should have little to fear
under this new rule. It would be unlikely for lower courts to find such
inducement by mistake, for example. However, the major task of the lower courts
will be to sort out the legitimate actors from the illegitimate ones, using the
parameters set forth in Grokster as a
guide. While Grokster created a new
form of copyright liability and positioned it as an exception to the Sony
safe harbor, it positioned that standard as applicable in limited
circumstances.

Distinguishing the
OldSony
Safe
Harbor
from the New Grokster Standard

The Court was quick to
comment in Grokster on the
misapplication of the Sony precedent
by the Ninth Circuit: “Because the [Ninth] Circuit found the StreamCast and
Grokster software capable of substantial lawful use, it concluded on the basis
of its reading of Sony that neither
company could be held liable, since
there was no showing that their software, being without any central server,
afforded them knowledge of specific unlawful uses. This view of Sony,
however, was in error, converting the case from one about liability resting on
imputed intent to one about liability on any theory.” The Sony rule still is law, but the analysis does not end with blind
application of the standard. In other words, if there are substantial
noninfringing uses but the entrepreneur encourages (induces) only infringing
ones – as the evidence indicated Grokster and StreamCast did (“clear
expression or other affirmative steps to foster infringement”) – then Sony will not bar a finding of secondary liability. Moreover, the Grokster
inducement rule will now enable courts and juries to make such a finding.

Second, the Court rejected
the copyright owner’s request to “add a more quantified description of the
point of balance between protection and commerce when liability rests solely on
distribution with knowledge that unlawful use will occur. It is enough to note
that the Ninth Circuit’s judgment rested on an erroneous understanding of Sony and to leave further consideration of the Sony rule for a day when that may be required.” In other words,
the Court refused to insert a quantifiable amount into the Sony safe harbor rule, leaving the decision as to how much use
qualifies as substantial noninfringing
use for subsequent courts, perhaps baiting lower courts to do so.

Finally, the Court did not
reach the question of whether the defendants could be found vicariously liable. (“Because
we resolve the case based on an inducement theory, there is no need to analyze
separately MGM’s vicarious liability theory.” “One infringes …
vicariously by
profiting from direct infringement while
declining to exercise a right to stop or limit it.”)
But it is important to recall that the relationship between Grokster and
StreamCast and the consumer is at arms length, whereas the relationship between
an employer and employee is not. As far as vicarious copyright liability is
concerned, employers remain vicariously (strictly) liable for the infringement
committed by employees. Thus the comment by Justice Souter quoted above should
not cause anyone to doubt the potential for liability among employers such as
schools, colleges and universities or libraries for the infringing acts of
employees.

Divining
the Future Course in the Courts

Looking most favorably on
the Supreme Court decision one could conclude that the rule created in Grokster is a rather sage approach to the wink-wink reality of many
peer-to-peer (P2P) environments: While
this technology could be put to good use, we trust it won’t! The Court was
simply unwilling to let such entrepreneurs survive legal review in instances
where the Sony rule had evolved from a
safe harbor for legitimate developers into a loophole for low-minded ones.
“Thus, where evidence goes beyond a
product’s characteristics or the knowledge that it may be put to infringing
uses, and shows statements or actions directed to promoting infringement, Sony’s
staple-article rule will not preclude liability.” So, too, if the previous
lower court decisions post-Sony are
any indication, subsequent courts will likely tread carefully in applying the
new rule set forth in Grokster in
determining inducement, separating the true cases of culpable behavior from the
innocent and accidental. The Court observed the culpable nature of the inducing
message from the companies’ communications such as Internet-based
advertisements and newsletter announcements. For example “[o]ne proposed
advertisement read: ‘Napster Inc. has announced that it will soon begin
charging you a fee. That’s if the courts don’t order it shut down first.
What will you do to get around it?’” Other evidence in the record suggested
that Grokster was banking on legal trouble for the free publicity it would
generate!

A New
Safe
Harbor
of Sorts

To be sure Grokster and
StreamCast were easy cases,
where the evidence of inducement was overwhelming. But what if the facts are
close? Then what? Justice Souter was not so forthcoming with examples of what
circumstances might constitute a safe harbor of sorts, more comfortable instead
with articulating the scope of inducement liability. The opinion nonetheless
offers several guideposts for entrepreneurs when producing and distributing
technologies in the future. In this articulation Justice Souter outlined three
factors, additional circumstances in the wake of Napster that supported the
conclusion of unlawful intent or objective in the design and operation of the
defendant’s technology. Entrepreneurs should avoid doing anything resembling
them.

First, in the Grokster case
there was an aim to “satisfy a known source of demand for copyright
infringement,” evidenced by a similarity of product name, offering of similar
program functionality and Grokster’s attempts to divert queries for Napster to
its own site. Context is everything! And this factor recognizes the reality of
the circumstances surrounding the infringement. For some content and for some
technologies there is, for better or for worse, a culture of infringement. In
the future it may mean that a legitimate entrepreneur may on occasion need to
bypass a particular market because the likely threat of infringing uses by
customers is simply too great. Yet, as the preservation of the
Sony safe harbor indicates,
there is a vast difference between creating a technology that others in their
greed or ignorance – or perhaps greedy ignorance – may choose to put to
infringing uses and creating a technology that requires Gandhian restraint among
users if they are to avoid infringement.

Second, Justice Souter
observed the absence of any attempt by either defendant to “develop filtering
tools or other mechanisms to diminish the infringing activity using their
software.” It is not clear whether this observation now requires entrepreneurs
to take affirmative steps to prevent infringement such as cooperating with
copyright owners to insert safety mechanisms or switches into such systems, some
sort of “content governor” or tracking protocols. Such a requirement would
appear burdensome indeed. Again, context is everything and Justice Souter may
have been suggesting that relying on the Sergeant Schultz defense (“I know
nothing, nothing!”) in light of other circumstances will carry little
evidentiary weight and in fact requires counter-balancing evidence of
legitimizing steps of good faith to the contrary. That is, perhaps one must show
a concomitant intent to incorporate design
features that prevent, slow or at least place the proverbial monkey wrench into
the pathway of users intent on making infringing uses of the technology.

Can an entrepreneur be
subject to a claim of inducement upon failure to make such design attempts? In a
footnote the Justice added “in the absence of
other evidence of intent [the first and third factors, market space and revenue
trace, respectively], a court would be unable to find contributory infringement
liability merely based on a failure to take affirmative steps to prevent
infringement, if the device otherwise was capable of substantial noninfringing
uses. Such a holding would tread too close to the Sony safe harbor.” Arguably, the use of defensive measures is the
goal here, that is, safeguards built into the technology. Again context is
everything. Perhaps a shifting scale is appropriate here as well – the more
other evidence of intent exists (the other factors), the greater becomes an
obligation to intervene or at least be proactive in design.

Third, there was a positive
relationship between infringing use, advertisements and advertising revenue, a
main source of income for Groskter and StreamCast. This concept is at work in
the existing law of vicarious
copyright infringement where liability can be established if there exists a
direct financial interest in the infringing activity along with the right
and ability to supervise the infringing activity (thus preventing its
occurrence). Fee structures that depend on the amount of infringing activity
versus those that treat infringing and noninfringing users alike generally
satisfy the required direct financial interest element there. As with the second
factor, Justice Souter indicated that this factor alone was insufficient to
infer “unlawful intent” or “unlawful objective.” As a result, the
occurrence of the second (lack of intervention mechanisms) or third factor
(revenue stream) alone is insufficient for liability but both present in tandem
or alone in conjunction with the first factor (attempts to exploit known market
for infringement) could trigger liability or perhaps other unidentified factors
that it would be up to subsequent courts to articulate. Observe also that
Justice Souter made no such disclaimer with respect to the first factor,
satisfying a known source of demand for copyright infringement. In other words,
this first factor alone might be sufficient to trigger liability but perhaps
that is reading too much into what was left unsaid by the Justice. However, with
all three factors in place, in the words of Justice Souter, objective of ill
intent is “unmistakable.”

The lessons then are
threefold. Entrepreneurs, or any copyright intermediary for that matter (in a
legal sense, any actor that could be liable for secondary copyright
infringement), should not make any statements suggesting illegitimate use be
made of the technology provided. The marketing plan (or acceptable use policy
for internal users) should be clear for entrepreneurs or other purveyors of
technologies: Do not induce or encourage or suggest infringing uses of
that technology especially in the following situations:

·In
sensitive environments where students, patrons, customers and others look to
representatives of the institution for guidance, or

·Where
the connection between the technology and the user base is close, that is, more
easily controlled, or

·Where
the connection between the user and the content is likewise close, that is,
infringement is tempting and easy.

Deliberate
acts of good faith should be the rule of the day. As a result, communicating
such admonishments to users of technology is wise and otherwise consistent with
the developing codified law.

Second, network protocols
should be designed where feasible to respond to blatant abuses through system
flags for excessive downloading, for example, or ensure that copyright
“leakage” (accessibility to copyrighted works in digital form) is minimized
through such measures as the use of password-dependent access to copyrighted
material that is also restricted to employees, students or otherwise limited
user groups. Again this advice is also consistent with the developing codified
law, for instance 17 U.S.C. § 110(2)(C)

Third, if any fee structures
are imposed upon system users,
do not structure payment based upon the use made of the system, so that a larger
amount of infringing activity generates greater revenue. Flat fee periodic
payments are preferred over contingent or variable ones related to the amount of
infringing activity such as the number of times the system was used. Charges
based on file size or connect time may also be neutral. A diffused revenue
system might be an even better option. In Grokster
not only was the defendant’s revenue generation related to infringing
uses, it appeared also to be the sole or significant source of income for
Grokster and StreamCast.

Hopefully the lower courts
will not employ a standard of any financial interest whatsoever, whether in
actual revenues or exchange value, to this prong, but restrict it to Justice
Souter’s formulation of direct use of the product. Of course critical here is
the Court’s conclusion that most of the activity was indeed infringing, thus
by logic most of the revenue tainted. In other words, the revenue generated from
the product when put to infringing uses did not represent
a mere windfall or unexpected bonus. It was the banked-upon result of a
successful strategy to become the leading P2P music sharing system after the
demise of Napster.

The Future of P2P and E2E
(Educator-to-Educator)

P2P is
not dead, nor is the sky falling. Suppose a faculty member at an IS school
develops an Internet protocol (an E2E system) designed to facilitate the
exchange of large amounts of data among researchers
and calls the program NotTheNextNapster. Unfortunately some students figure out
that the program can also be used to efficiently transfer large media files such
as digitized VHS tapes. Would the faculty member have liability under Grokster?
Would the Sony safe harbor be
available? In theory the conduct would come under the Sony safe harbor since there is no evidence of inducement.

Change
the facts and a different result might occur. Suppose the campus has been on the
receiving end of numerous notices of infringing material or activity and of
subpoenas for identification of infringers – in other words the campus is a
hotbed of infringing activity. To the dismay of many students the administration
is responding in an aggressive fashion by rolling out an information campaign,
cooperating with copyright owners, employing several security features and even
suspending accounts. Now suppose in light of the circumstances and buzz
generated on campus by the institution’s compliance-oriented responses the
professor developed and distributed the protocol to registered students in her
class, encouraging them in light of the university’s crackdown to see if use
can be made of the technology without discovery by campus administrators as the
system is designed to execute commands in stealth.

Of
Justice Souter’s three factors, two, possibly three might exist. Based on the
fact and circumstances of this campus there is a known market for the infringing
technology, a so-called culture of infringement. (The author intends no
indictment of tertiary education in general.) Second, there exists no evidence
of safety mechanisms within the NotTheNextNapster; in fact the evidence supports
a finding of deliberate subterfuge. Finally, there may be a related financial
link here, as students must register and attend the professor’s class in order
to receive a current password for activation of the protocol, thus students
flock to her classes and the faculty member receives reinforcing “negative”
feedback as a result of this popularity, with possible increases in merit
ratings or salary. It could be argued that there is some link between the
infringing software distributed, the amount of infringing users and at least the
possibility of increased revenue. The last factor appears the most tenuous of
the three. However, in Justice Souter’s formulation, two of the three might be
enough.

Concluding
Thoughts

In general, the case stands
for the proposition that members of the Court are cognizant of the gigantic
scale of infringement online – and elsewhere as well perhaps – and are not reluctant to fashion a new basis for liability in response to a
new mode of infringement. While Justice Souter was quick to point out the
advantages of P2P networks (popularity, bandwidth capability, storage capacity,
speed and network maintenance) in a footnote he recounted the costs as well: “Peer-to-peer
networks have disadvantages as well. Searches on peer-to-peer networks may not
reach and uncover all available files because search requests may not be
transmitted to every computer on the network. There may be redundant copies of
popular files. The creator of the software has no incentive to minimize storage
or bandwidth consumption, the costs of which are borne by every user of the
network. Most relevant here, it is more difficult to control the content of
files available for retrieval and the behavior of users.” As a result, the
decision also signals that the court will not hesitate to fashion a remedy when
faced with new technology environments. That is exactly what the court did with
VCR technology in the 1980s in Sony
and that is what the Court did in 2005 with P2P systems.

The decision stands as a
victory for copyright owners against infringers and especially targets
intermediaries (candidates for secondary copyright liability) as part of the
enforcement equation. This victory may embolden copyright owners to challenge the
other practices of intermediaries relating to copyright in other contexts of
relevance to libraries, schools, colleges, universities and other institutions,
for example, e-reserve practices. All things considered the number of
copyrighted works placed on e-reserve is likely also staggering. However, unlike
Grokster, there is a higher percentage of use that is likely fair. The point is
that the ire of the industry is raised and seems unlikely to subside any time
soon.

If there is any criticism
here, it is that borrowing from the patent law might not be the
best strategy overall as the nature of patent versus copyright laws, while both
are based on the grant of monopolistic rights, is different in that copyright is
better characterized as a limited monopoly. The copyright statutes are populated
with numerous exceptions or limitations on the exclusive rights of copyright
owners, while the patent law is far less forgiving. Whether the lower courts
will keep this distinction in mind and allow for the appropriate breathing room
the copyright law demands is unclear.

The
course of sail towards future safe harbors remains uncharted. Justice Souter
spent so much time articulating the new legal inducement standard that he left
untouched the more pressing question: where lawful conduct ends and contributory
liability begins in a networked world. The concept of inducement online or
otherwise is well articulated now, but what conduct short of inducement can
still be infringing? What legal standards apply to those who link to infringing
material or provide network access and services to those who put that access to
infringing use? Questions, alas, for another day and for other cases. Beyond the
pundits, the true impact will have to wait for the passage of time or at least
until the first few lower court cases applying these concepts are decided. What
is certain is that if a copyright safe harbor is still sought by an
intermediary, the Grokster decision offers another underwater obstacle that must also
be avoided.

Summary Points

The Sony decision
is still good law. The Court refused to place a quantitative value on how
much legitimate use qualified as a “substantial noninfringing” use, the Sony
safe harbor.

The narrow interpretation of the Sony standard offered by the Ninth Circuit (if substantial
noninfringing uses, then liability only where actual knowledge and failure
to act exist) was rejected.

The Court appears mindful of the scope of infringement
in networked environments.

The Court is willing to fashion a remedy targeted at
bad actors, specifically by adopting the inducement rule from the patent law
for use in the copyright arena.

The new Grokster
rule operates to assign liability to a distributor
of a product capable of both lawful and unlawful uses when the distribution
is made with the object of promoting its use to infringe copyright, as shown
by clear expression or other affirmative steps taken to foster infringement,
and is liable for the resulting acts of infringement by third parties.

Direct evidence of intent to induce infringing conduct
is needed. Pandering to an existing demand, market or pattern of
infringement, the absence of any safeguard measures within the network or
technology, and a
correlation among the entrepreneur’s revenue stream, the supply of the
technology and the infringing use made of it are three factors that can
evidence this intent. Neither the second or third factor alone is
sufficient, but the first might be sufficient.